Being debt-free is the dream, but for most American families this isn’t realistic. Try as you might to live according to Dave Ramsey’s teachings, if you want to own a home or go to college in America, you’ll likely need to take out loans. Life insurance can protect your family from being saddled with your debt. Keep reading to learn about how debt is treated after death and how to get the best life insurance rates.
You Work Hard for the Money
You work hard to provide a good life for your loved ones. If you’re married, you probably contributed costs toward a wedding. If you have children, you’re probably paying for daycare and saving for college tuition. Then there’s rent or a mortgage and car payments.
Living is expensive… but so is dying.
» Calculate: Life insurance needs calculator
Have You Wondered What Happens to Your Debt When You Die?
Some debt does indeed disappear when you die. But most of it lands on your estate to pay, which decreases what you leave behind for your loved ones. The type of debt you incur and the state in which you live will affect what is left behind and who becomes responsible for it.
There are two types of debt: secured and unsecured. Secured debt means the loan is backed by an asset which the lender can repossess if the balance isn’t paid as promised. Unsecured debt means that you simply promise to pay the balance, but there is not a specific asset serving as collateral that the lenders can take if it’s not paid.
As a general rule, if you die and the balance is not paid, secured debt becomes the responsibility of whoever inherits the asset. For example, a mortgage loan is a secured loan. The lenders can repossess the property and sell it to pay off the loan. If you have a mortgage and you die, your heirs become responsible. Your heirs can sell it themselves and hope to make enough to pay off the balance, or you can buy life insurance so your loved ones won’t need to worry and can remain in the house.
If you die and have unsecured debt, this is usually paid from your estate and if you do not have enough assets to cover the total, your heirs will likely be in the clear. If you live in a community-property state, however, this isn’t always the case.
Acquiring Debt in a Community-Property State
If you’re married and living in a community-property state then any debt you acquire during marriage, even unsecured loans, can become the responsibility of your spouse when you die.
Some community-property states allow you to formally divide property with a Separate Property Agreement so creditors can’t come after the surviving spouse for payment. This is usually done in writing.
Which Debts Get Passed On?
There is basically only one type of debt that is discharged upon your death: federal student loans. Once proof of death is submitted, the debt is erased. Recent tax law changes also eliminated taxes on discharged student loan debt. Previously, any student loan debt that was discharged due to death or disability was taxable.
Private student loans are usually not forgiven. These loans often require a co-signer. The co-signer becomes responsible to pay back the loan if you die.
A mortgage loan does not get discharged on death. Five things typically can occur:
- Your estate has enough funds to pay off the loan and your house is transferred to your heirs free and clear.
- If you own mortgage protection insurance, your home will be paid off when you die. (We advocate for life insurance instead.)
- Your heirs take on your loan and continue paying the same premiums.
- Your heirs sell the home or walk away from it causing it to be foreclosed upon. If the home is sold for less than what is owed, creditors can still sue the estate to recoup its losses.
- You have substantial debt and the state requires that the home be sold to pay your bills.
Home Equity Loan
What happens with a home equity loan is similar to what happens with a mortgage loan. When you die, this is a loan that will either be paid from assets in your estate, your heirs can take over the loan, or the home will be sold to pay off the loan.
If this loan is co-signed, the co-signer is responsible for the loan. If there is no co-signer, heirs have some options. They can take over the payments, sell the car and pay off the loan, or they can often return the car to the dealer. The dealer typically sells the car at auction and applies the proceeds to the loan. If there is still money owed, the dealer will bill the estate.
Credit Card Debt
Credit card companies will attempt to get paid from your estate when you die. If there is no money left in your estate to pay off the debt, the credit card companies won’t get paid.
If the credit card is co-signed, the co-signer becomes responsible to pay the balance. Authorized users of the credit card, however, are not responsible. They just cease being able to use it.
Personal loans can be used to meet a number of different expenses. Some of the most common uses of a personal loan are: debt consolidation, home renovation, funding weddings, and funding vacations.
When you take out a personal loan, lenders often pitch buying credit insurance. (It may also be offered with credit cards and auto or home loans.) Credit insurance pays back the lender if you are no longer able to make the payments. If you were to die and you have credit insurance, the lender gets paid. If you die without credit insurance—you guessed it—the lender will make a claim on your estate.
Again, we advocate for term insurance over credit insurance. Term insurance can be more cost-effective than credit insurance and is more beneficial to your loved ones.
Creditors cannot come after life insurance death benefits.
The Best Way to Protect Your Loved Ones Is Through Life Insurance
Creditors cannot come after life insurance death benefits. This bears repeating. Even if you owe one million dollars on a mansion and you leave one million dollars of life insurance to your beneficiary, the mortgage company cannot take what is owed from your beneficiary. Life insurance proceeds are not part of your estate. Your beneficiaries can, however, decide to take their million dollar life insurance death benefit check and pay off the mansion and live in it free and clear.
Note: if you name your estate as your policy’s beneficiary, then the proceeds can be accessed by creditors. We recommend naming both primary and contingent beneficiaries so the proceeds do not fall to your estate.
Whether you have credit card debt, medical bills, car loans, mortgages, or private student loans, owning life insurance can financially protect your loved ones when you die. Your heirs may not become directly responsible for your debt (except for co-signers or community-property situations) but your debt will be paid from assets in your estate before being passed on to your heirs. Without life insurance in place, your heirs may end up with nothing except a funeral bill.
» Learn more: Term Life Insurance for Cosigners
How You Can Get the Best Life Insurance Rates
Life insurance is to protect the ones you leave behind. If you have people relying on you, don’t wait. Get life insurance. The sooner you purchase it, the less it costs. Your life insurance rates are based off a number of factors, your age being a big one.
|Average Annual Cost of a $250,000 20-Year Term Life Insurance Policy for a Healthy Non-Smoker|
Working with a broker, like Quotacy, is your best option for getting the best life insurance rates because brokers can shop your application to multiple life insurance companies. The life insurance industry is highly competitive. To keep up, different life insurance companies cater to different health and lifestyle niches.
For example, while one life insurance company may require you to pay tobacco pricing if you use marijuana, another company may be willing to offer non-tobacco pricing. If you apply for life insurance through Quotacy and you use marijuana, we’ll be able to offer you quotes from that specific company that will give you the best life insurance rates.
If you’re shopping for term life insurance, it’s advisable to choose a term length that will financially protect your family until your debt and loans are paid off. For most people, their largest loan is their mortgage. If you have a 30-year loan with 25 years left, then get at minimum a 25-year term policy.
You can get the best life insurance rates instantly without needing to give away your contact information. Some websites require you to provide your phone number or email before seeing quotes. And most websites say that you’ll be able to get life insurance quotes but then you’re brought to a page that says someone will contact you with your quotes.
Here at Quotacy, there is no need to wait. Get your free term life insurance quotes now.
» Compare: Term life insurance quotes
About the writer
Writer, Editor, and Co-host of Quotacy's Q&A Fridays
Natasha is the content manager and editor for Quotacy. She has been in the life insurance industry since 2010 and has been making life insurance easier to understand with her writing since 2014. When not at work, she's probably studying and working toward her Chartered Life Underwriter (CLU) designation while throwing a tennis ball for her pitbull mix, Emmett, or curled up on her couch watching Netflix. If it’s football season, the Packers game will be on. Connect with her on LinkedIn.